When your CEO buys a megamansion, is it time to dump stock?

Originally published April 11, 2007 at 12:00 am

Updated April 11, 2007 at 2:10 pm

The bigger the CEO home, the worse the company's stock fares, according to two academic researchers, who also found that companies with CEOs living in more modest abodes often see their shares outperform.

NEW YORK — Investors looking for stock-picking tips might find the answer right at home — not their own, but where CEOs live.

A new study makes the case there is a strong correlation between executives’ home-buying behavior and stock performance.

The bigger the CEO home, the worse the company’s stock fares, according to two academic researchers, who also found that companies with CEOs living in more modest abodes often see their shares outperform.

Arizona State University’s Crocker Liu and New York University’s David Yermack, who teach finance at their respective schools, contend a supersized home purchase shows entrenchment. A CEO might feel secure in his position and therefore isn’t concerned he is going to have to leave any time soon.

Of course, entrenched CEOs can win in the corporate world, and the time and money involved in buying lavish properties could be a sign they are making a long-term commitment to their companies and communities.

What the study found out about CEO homes
The figures are for 2004

Median home price: $2.7 million

Median price for all homes in U.S.: $195,200

Average number of rooms: 11

Average number of bathrooms:4.5

Average square footage of CEO homes:5, 600

Homes situated on waterfront: 12 percent

Homes next to or on the grounds of golf courses: 8.5 percent

But the professors concluded the purchase of a megamansion could also symbolize that CEOs view their homes as being more important than their companies, and that many sell company stock just before it peaks to buy and furnish their expensive new digs.

Liu and Crocker culled data on 488 principal residences from CEOs of companies in the Standard & Poor’s 500 stock index at the end of 2004 for their study, “Where Are the Shareholders’ Mansions?”

The 12 CEOs not included may be renters who own no property or live outside the United States.

Their findings show a privileged class: The median home was valued at $2.7 million — more than 10 times the median sales price for all U.S. homes in 2004.

It included 11 rooms plus 4.5 bathrooms, with a floor area of more than 5,600 square feet and a median land area of 1 ¼ acres.

Twelve percent of CEOs’ homes are on waterfronts, and 8.5 percent are next to or on the grounds of golf courses.

The median CEO lives 12.5 miles away from corporate headquarters, though 6 percent of those in the study lived more than 250 miles or more away — meaning it takes a plane ride to get to the office.

CEOs often buy new homes the year they get the “big” job, with a total of 164 S&P 500 executives in the survey doing that. To finance their purchases, 44 percent used mortgages, almost evenly split between adjustable-rate and fixed-rate loans, the authors found.

More interesting is that around a third of CEOs appear to have exercised stock options and sold shares in the 12 months before they bought a home. The shares peaked right before the purchase.

That doesn’t mean they necessarily sold those shares, then used the proceeds to buy their homes. The authors believed the timing was more than just coincidence, however, because the companies’ share prices began to fall after that peak.

“The stock charts show that some CEOs might be very motivated sellers who are rolling money into a home,” Yermack said. “Home purchases could be a ruse. If you are going to dump stock, you can buy a house to cover your tracks.”

Those living really large are the 12 percent of S&P 500 CEOs with homes topping 10,000 square feet, or on a minimum of 10 acres. But occupying the biggest house on their block doesn’t make you a winner on Wall Street.

Their companies’ stocks lagged the S&P 500 by about 25 percent over the three years after the home purchases.

In contrast, those buying more modestly saw their companies’ stocks beat the market benchmark by about the same amount.

Former Home Depot CEO Robert Nardelli’s nearly 30,000-square-foot mansion was among the largest in the study. It was purchased after Nardelli took over the home-improvement chain, and it underwent big renovations, according to Yermack.

But that kind of space didn’t give Nardelli enough room to come up with a company strategy investors necessarily liked. Shares fell more than 3 percent on a split-adjusted basis from Nardelli’s arrival in December 2000 to when he resigned at the start of this year under a cloud over his outsized pay.

Power-One’s former CEO and now Chairman Steven Goldman was among the worst performing big homeowners in the study. He bought a 12,000-square-foot home in Malibu, Calif., in 2000 for $15 million, according to Zillow.com.

He sold more than 3 million shares in the 12 months prior for a total market value of more than $100 million, according to Thomson Financial.

The year of the purchase also was when the power-products manufacturer’s stock hit its all-time peak of nearly of $90 a share on a closing basis.

But its shares have faced a steep slide since and now trade around $5.50 each.

Of course, not everyone in big homes is destined to disappoint their company’s stock investors.

Yermack notes there are plenty with trophy properties that have done right by their shareholders, including Oracle’s leader Larry Ellison and Sun Microsystems former CEO and current Chairman Scott McNealy.